How much fiscal stimulus is too much? The debate on this question among economists who support the goals of Joe Biden’s US administration has become fierce. That is no bad thing: policy should be debated. In this crisis, as during the 2008 financial crisis, one has to evaluate the risks of doing too little against those of doing too much.
But one thing is clear: the fact that too little stimulus was delivered in 2009 does not mean that far more than that must be right today. Policy must be judged by its suitability in current circumstances while recognising the uncertainties and balance of risks.
I have no objection in principle to huge fiscal spending. Indeed, in January 2009, I argued that the US should run a fiscal deficit of 10 per cent of gross domestic product until the damaged balance sheets of the private sector were healed. Shortly thereafter, I argued that we had to learn from Japan if we were to understand the dangers then confronting western economies. I have also recognised from the start that a pandemic is an emergency, rather like a war. Policy did indeed need to go on a war footing.
Nevertheless, it is vital to recognise what makes a pandemic different from a financial crisis or a war. Unlike a financial crisis, Covid-19 will not necessarily create an overhang of bad private debt likely to suppress demand indefinitely. Instead, the balance sheets of people who have earned well and spent little have actually improved. Again unlike a war, the pandemic does not destroy physical capital. There is a good chance therefore that economies will recover really strongly, once fear of the disease has waned. If so, the dominant part of the planned fiscal policy response should aim not so much at short-term relief as at “building back better”, by promoting a sustained increase in public and private investment.
This is the context in which the debate on the Biden administration’s $1.9tn fiscal package needs to be understood. It is not a philosophical debate, but one over the size, timing and nature of the package. The protagonist has been Larry Summers, former US Treasury secretary and chief economic adviser to Barack Obama, supported by Olivier Blanchard, former chief economist of the IMF. Both are Keynesians and supporters of the Biden administration. Summers even developed the “secular stagnation” theory, which justifies reliance on fiscal policy.
Summers recently questioned the wisdom of the package in the Washington Post. He argued that stimulus equal to 13 per cent of GDP (the $900bn that has already been enacted plus the $1.9tn) “was very large, especially in an economy with extraordinarily loose financial conditions, reasonably rapid growth forecasts, still unmet public spending needs and a very big overhang of private saving. Budget deficits in 2021 on the proposed plans will quickly be approaching the record World War II levels as a share of the economy.”
This is undoubtedly a reasonable…
Go to the news source: Joe Biden’s $1.9tn package is a risky experiment